If Standard Chartered Loses Its License: Worst Case Scenario Analysis

By Teresa Rivas

Standard Chartered (STAN) continues to fight back against charges by New York State Department that the bank laundered more than $250 billion for Iran in the past ten years, and it has some powerful allies on its side, including some top U.K. officials.

But what would happen to the bank if it lost its case?

In a note out today, Bernstein Research’s Chirantan Barua tackles that question. Barua notes that the U.S. dollar remains the currency of choice for global transactions, and given that “the US is single biggest geography for cross border US dollar liquidity,” it would be crippling for the company to lose its license–perhaps to the tune of 40%+ earnings loss.

Here are the two main impacts of such a scenario:

Loss of Core Transaction banking clients: In an event where STAN was not able to offer US$ clearing, most sophisticated multinational clients in Emerging Markets would move accounts / funds out of STAN into other providers. Most of these clients anyway have multi-bank relationships and it would be easy for them to move into other providers. Out of other CHIPS license holders, HSBC and Citigroup will be the natural winners (much like STAN did when the two banks retracted in 2008-10 in sia) and Deustsche Bank could be the wild card given increasing strong transaction banking presence in Asia. We expect this “clients at risk” base to account for ~50% of STAN’s transaction banking revenues. Now given STAN’s Global Market revenues are driven mostly of client flows, a direct interpretation from the financials would mean for every $ lost in Transaction Banking, the bank would stand to lose another $1.5 in Global Markets assuming 80% of flows are in client driven. STAN has also mentioned in the past that their x-sell multiplier for top clients is ~30% higher than for nonclients. So the impact on Global Markets revenue could be even higher at ~1.9X. It’s also important to note that transaction banking and capital market are clear scale businesses. So loss in revenues does not translate linearly into loss in earnings – they tend to be significantly higher. To sum it up, we believe there a $ lost in revenues could translate into $1.3 loss in earnings and accordingly a potential 30% hit to revenues from wholesale clients could translate into 40% hit in earnings.

Loss of Custody and Correspondent Banking clients: Another reputational fallout from a loss of the US banking license (which would imply that STAN was actually guilty of abetting Iran outside US laws) could be loss in Domestic Custody mandates. STAN has a significant market share in Asia (~25%) for which its major clients are likely to be US institutions which could stop trading with STAN. We estimate Securities Services revenues in STAN to be ~1.5% of Group revenues and on top of it FX/ Cash revenues of another 1%. This could mean a 2.5% hit to earnings. STAN also acts as a correspondent bank FIs and if it were to turn into a client rather than a provider, that pool will go away as well. In fact in the half yearly management call, it was singled out as the highest growing income stream in STAN. “We’re seeing very good growth in our correspondent bank businesses in FI, where that -income – that business was growing at 50%” This will be a much smaller base and we estimate the hit to earnings will be minimal as compared to the other ones. So earnings loss from Securities Services and Correspondent Banking may not be extreme but it’s important to know that both have been drivers of growth in Wholesale Banking and would again limit the pace at which STAN could grow.

Barua, who has had an Underweight rating on the company for some time, notes that if this were to happen, Standard would trade at a discount to book value as the investment community evaluates basically a whole new business model. “But we are far from there as yet and this note is just a guide to help investors understand the underlying business dependencies on the clearing license.”

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